Question

Ellie Mosk, CEO of X-Space Industries, decided to expand the company’s product offering beyond the core model rocket business. After investigation, she decided to set up a separate division to design and manufacture products for the drone market. Several companies were interested in having X-Space develop these drones, and financial results, to date, have been encouraging. Revenue was $4 million, gross margins have been running about 40%, and the customer sales and support costs were $1 million. However, there is a growing concern that some customers require a disproportionate share of the sales and support resources, and the true profitability of the customers is unknown. Data were collected to support an analysis of customer profitability:

Activity	Cost Driver	Total Cost
Sales visits	Sales visit days	$	477,000
Product modifications	Number of modifications		269,000
Phone calls	Number of minutes		92,900
E-mail/electronic communications	Number of communications		171,000
		$	1,009,900

Customer	Revenue				Gross Profit				Visit Days				Modifications				Phone Minutes				Electronic Communications
A	$	391,000			$	141,000				15				15				1,120				625
B		491,000				191,000				25				15				1,210				875
C		591,000				221,000				40				40				1,460				1,090
D		1,090,000				411,000				90				60				1,810				2,090
E		1,410,000				581,000				100				70				2,210				2,340
Totals	$	3,973,000			$	1,545,000				270				200				7,810				7,020

Required:

1. Management felt the easiest way to allocate the sales and support costs was based on the total revenue. Using total revenue as the allocation base, determine the profitability of each of the five customers. (Round your intermediate calculations and final answers to 2 decimal places.)

	Customer Gross Profit Share of Support Costs Based on Revenue Profit After Support Costs Profit % A $141,000 % B 191,000 % C 221,000 % D 411,000 % E $581,000 % Totals $1,545,000 $0.00 $0.00

2. Management felt that because the data revealed some customers require a disproportionate share of sales and support resources, activity-based costing should be used to determine customer profitability. Use ABC to prepare a customer profitability analysis. (Round your intermediate calculations and final answers to 2 decimal places.)

	Customer Gross Profit ABC Costs Net Profit After Support Costs Net Profit % A $141,000 % B 191,000 % C 221,000 % D 411,000 % E $581,000 % Totals $1,545,000 $0.00 $0.00

Answer 1

1) Cost allocation based on revenue

Customer	Gross profit	Share of Support Cost Based on Revenue	Profit After support Costs	Profit % (on revenue)
A	$141,000	99388.6	$41,611.4	10.64%
B	$191,000	124807.7	$66,192.3	13.48%
C	$221,000	150226.7	$70,773.3	11.98%
D	$411,000	277068	$133,932	12.29%
E	$581,000	358409	$222,591	15.79%
Totals	$1,545,000	1009900	$535,100	13.47%

Cost allocation ratio (A:B:C:D:E) 391:491:591:1090:1410

2) Cost allocation based on ABC (Activity Based Costing)

Customer	Gross profit	ABC costs (working note)	Profit After support Costs	Net profit Profit % (on revenue)
A	$         141,000	75221.77	$                               65,778.23	16.82%
B	$         191,000	100048.7	$                               90,951.30	18.52%
C	$         221,000	168384.7	$                               52,615.30	8.90%
D	$         411,000	312140.2	$                               98,859.80	9.07%
E	$         581,000	354104.6	$                             226,895.40	16.09%
Totals	$     1,545,000	$ 1,009,900	$                             535,100.03	13.47%

Working notes

Activity	Cost driver	Costs	Allocation ratio	A	B	C	D	E
Sales visits	Sales visit days	477,000	15:25:40:90:100	26500	44166.67	70666.67	159000	176666.7
Product modification	Number of modifications	269,000	15:15:40:60:70	20175	20175	53800	80700	94150
Phone calls	Number of minutes	92,900	112:121:146:181:221	13,322	14,393	17,367	21,530	26,288
E-mail/electronic communications	Number of communications	171,000	625:875:1090:2090:2340	15224.36	21314.1	26,551	50,910	57,000
		1,009,900		75221.77	100048.7	168384.7	312140.2	354104.6